Scottish Independence, ‘YES’ or ‘NO’ From the ‘NO’ Side Scotland is Better Together with the United Kingdom

If the people of Scotland favour independence, the split will create high level of uncertainty, and this component of risk will be extremely difficult to deal with

On September 18, in the national referendum on independence people residing in Scotland will have an opportunity to decide upon Scotland’s future. This will be arguably the most important political event in recent UK history: after three hundred years, the Acts of Union of 1707 might cease to exist ending common state of Scottish and other British Nations. The possible implications of a referendum result favouring independence would be tremendous and could be extremely difficult to assess for both Scotland and the New United Kingdom.

Increased Uncertainty

If the people of Scotland would favour independence, the split will create A high level of uncertainty. This component of risk is extremely difficult to deal with. This fact must be translated into high expected costs of the split. If, for example, economic policy of independent Scotland is concerned, nothing can be known about her economic policy until it is formulated and executed. However, in the modern world there are no real assets, like gold or silver, which could back the economy and the only available asset is confidence in a country’s economic capacity and its policy.

If we start from the latter, economic policy, the most important issue is the currency of an independent Scotland. There are three options: currency union; currency board; and, new currency. For the currency union, there should be an agreement of both, independent Scotland and the New Union, to create it. However, the Westminster establishment has signalled its lack of commitment to such a solution.

This stance seems to be logical and in the interest of the nations, which would stay in the New Union. The uncertainty mentioned before is then going to decrease the confidence in the new economy of independent Scotland. This must be translated into reduced confidence in the pound if it is shared by independent Scotland and the new UK in the currency union. This is due to the fact that it will be used by two different economies with two different fiscal policies of which independent Scottish has not been tested before in practice.

On the other hand, we can be pretty sure what kind of policy is to be continued in the New Union as the political establishment has been tested there for years. The logical question is, why then should the other three nations accept such a loss of asset? The rest of the UK political establishment expresses this fact by not agreeing to the monetary union and does this in the interest of its voters.

If we are to consider the second option of currency board, we must first explain the difference between this solution and the currency union. In the latter, there is a common monetary policy, which is influenced by both partners; in the latter, a country uses the foreign country currency without any influence on its monetary policy. This means that fiscal policy of the country using a foreign currency must be compatible with its foreign country counterpart. This means no independence in setting taxes, subsidies and budget deficit and no political spell or magic could change this.

If, however, Scotland would like to adopt a path different from the New Union fiscal policy, there is almost no economic possibility, with the exception below, of sustaining the currency board. This is supported by the current cases of the euro crises, and, in particular, the role of Greece and the South of Europe. The exception is a subsidy: a low deficit country subsidising the other partner in both the currency union and the board. The example of the South of Europe is also useful here with Germany being forced to transfer huge resources to save the euro. Germany also made such transfers in the nineties to its eastern part to sustain the German Mark existence in the new unified country after 1991.

Therefore, the question of the pound sterling usage by independent Scotland is answered negatively if the new country has an independent fiscal policy; it would not be possible to do so without a subsidy. On the other hand, it is difficult to imagine why the New Union would like to subsidise a foreign country. This means that the only feasible option is a new currency.

The new currency, however, leads us back to the issue of uncertainty. The new money needs to be tested by the markets, and until it gets credibility, its relative value will fall. The case of the euro, which started in December 1998 with the rate of exchange of 1.1672 to the dollar, and then in November 2011 plummeted to 0.8, serves us as a good example of such testing. Getting back the desired confidence took another two years (see Figure 1).

North Sea Oil Revenues

If we are to move to capacity, the most popular argument for Scotland’s independence is North Sea oil. At first glance, it should counterweight the impact of the uncertainty. If the share of oil production is included, the GDP of independent Scotland with $42,000 per capita in purchasing power parity will be between Denmark and Sweden. On the other hand, this ranking has not much of practical meaning for the voter. It does not mean that Scotland is going to adopt a solution in economy, law, institutions from Denmark or Sweden.The US and Hong Kong are neighbours in the same ranking and it does not matter much for conclusions about their economic future. Furthermore, higher GDP also means higher membership fees in all international organisations, starting from the European Union through the United Nations and ending with the International Monetary Fund. In this case, Scotland could also forget about keeping its share of the UK’s rebate in the EU membership fee.

There is, however, one important factor: the volatility of the oil price. This volatility is translated to the North Sea oil revenues, which ranged between £4 billion and £12 billion in 2003/4 and 2009/10 (see Figure 2). This means that the level of GDP as well as budget revenues could be very uncertain. The best illustration of this fact is the result of the Scottish public budget for last year (including tax from oil and gas fields in Scottish waters and capital spending), which amounted to £12 billion in the red. It also represented a rise in the deficit from 5 to 8.3 percent of national output, while the deficit for the UK was only 7.3 percent.

The last example also undermines the value of the argument that over each of the last 32 years, Scotland has contributed more tax per head of population than the UK as a whole. First, it is not true if we extend the time frame (see figure 3). Second, it does not mean anything if the oil price volatility is included in the broad picture. The Barnett formula, which has provided Scotland with extra subsidy from Westminster since the late 1970s, and has made Scottish public spending higher than £1600 per person than in the rest of the UK, seems to be better suited and less unpredictable.

Internal and International Ramifications

The decision about Scotland’s independence is probably the most important political event for the nations of the UK, Europe and the whole world in decades to come. After being part of a larger political entity for more than 300 hundred years, Scotland’s residents have a chance to say if they would like to go separate ways. The Yes decision in the referendum would have a great impact on economic, legal, social and political life, both internally and internationally. However, the transition to independence could be influenced by high degree of uncertainty, which, in turn, would make it very costly.

The above considerations concentrated on economics with two aspects – impact of oil and currency. There are, however, many more aspects that need to be analysed. Almost all of them can be classified under the high impact of uncertainty, which makes Scotland’s decision to go separate very risky.

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